Is British Airways Flying Into A Storm?

The carrier is in top form, but its deal with American is stalled and its cost-cutting runs the risk of a labor backlash

When Robert Ayling, British Airways PLC's chief executive, decided that his planes needed a new look, he didn't settle for half-measures. He dispatched researchers from Newell & Sorrell, a hip London design firm, to such faraway places as Poland and South Africa to hire artists who could work magic on BA's tail fins. Industry experts think the bold paintings will work in BA's favor. Says Chris Avery, an analyst at Paribas Capital Markets in London: "Everyone will know those gloriously colored tails are BA."

So the June 10 unveiling of BA's new colors should have been a moment of triumph for Ayling. Since taking the CEO's post in early 1996, he has made Britain's flag carrier into one of the world's leaders in airline profitability, earning $1 billion on sales of $13.6 billion in 1996. BA stock surged by 22% in the first six months of 1997, as investors applauded a cost-cutting program aimed at saving $1.6 billion per year by 2000.

Yet the stock has hit a lull (chart), and there was hidden turbulence in the summer air as Ayling grinned for the cameras. A year after being announced, his most important strategic gambit, BA's proposed alliance with U.S. giant American Airlines Inc., is languishing. Ayling is also at odds with many of BA's 58,000 workers over his efforts to lower costs through pay freezes, job cuts, and outsourcing. Employees and analysts think labor tensions could lead to a drop in BA's vaunted service. "I have never seen morale so low," says a baggage-handling supervisor at London's Gatwick airport.

Inevitably, there has been muttering about Ayling's spending close to $100 million on a redesign while employees get squeezed. "It is somewhat insensitive," says George Ryde, head of civil aviation for the Transport & General Workers' Union (TGWU). Ayling declined to be interviewed for this story, but a company spokesman says the cost-saving agreements have "saved very many jobs." And the company insists the redesign proves its commitment to future growth.

SUMMER STRIKE? Still, labor tensions have raised the odds of serious work disruptions. Talks on a new package with the TGWU, which represents most of BA's 12,000 cabin staff, have broken down as workers protest new terms the airline wants to impose. Now the union is balloting members for a strike during the peak summer season. The TGWU is also polling 9,000 baggage handlers and other ground crew at Heathrow airport and Gatwick airport on a walkout over BA's plans to sell off its British catering operations.

The union is aware that walking out would pose big risks. BA management is prepared to replace striking workers, and it probably could find replacements fairly easily. A year ago, when BA pilots threatened to strike over pay and conditions, a deal was struck at the last minute.

In any case, Ayling, 50, doesn't think he has any choice but to pressure his employees. In his view, the airline industry is becoming so cutthroat that the only response is constant improvement. And in an age when vast global alliances seem the only way to go, he is trying to pull off the most ambitious one of all--a combo of BA, the world's leading international carrier, with the No.2 airline. "From a shareholder point of view, he is doing the right thing," says one analyst. "But the risk is that he will cut too deep, and labor won't take it."

Since announcing the restructuring program last fall, BA already has reached agreements that should produce almost $1 billion a year in gains, and so far, the program has been less radical than employees feared. A few small units have been sold or offered for sale, but the airline has mostly used the threat of sell-offs to beat workers into concessions. Along with putting catering, which employs 1,500 people, on the block, BA sold its truck unit to Ryder System Inc. and is peddling its landing-gear overhaul unit.

Such slash-and-burn strategies might suggest that Ayling wants to make BA a low-cost airline, but he doesn't. The airline's modus operandi is to charge high tariffs for good service, especially in business and first class, where it has invested $330 million over the past two years on such attractions as seats that recline into beds. Guy Kekwick, an analyst at Goldman Sachs International, estimates that business- and first-class fares account for about 20% of BA's traffic but 40% of its revenue. Paribas' Avery notes that between Britain and North America, BA's bread-and-butter routes, business fares are among the fastest-rising in Europe, up 9% in 1996.

Ayling's proposed deal with American may be harder to pull off. His goal is to gain access to American's vast U.S. and Latin American networks and its premium passengers. This would be a far more attractive deal than BA's earlier venture with U S Airways Inc., which has now broken up. In filings with British regulators, the two carriers estimated that the alliance would eliminate $146 million annually in redundant expenditures for BA alone by the end of the century. On top of the savings, Avery thinks BA must see at least $325 million per year in revenue gains to put up with the trials of getting approval.

FIERCE LOBBYING. And what a hassle it has been. The deal, which needs regulatory O.K.s from the U.S., Britain, and the European Commission, has bogged down, thanks to elections in the U.S. and Britain and fierce lobbying by rivals Virgin, Delta, and United, which contend that the alliance would give the two too much power over the Atlantic. The combined behemoth would have 65% of U.S.-Britain traffic and 24% of U.S.-Europe traffic. Most analysts still think the deal will go through, and BA has been cleverly moving operations from Heathrow to Gatwick, partly because the price for approval would be giving up some Heathrow slots to U.S. competitors. The company boasts that it now flies more routes from Gatwick than Heathrow--taking some of the pain out of losing Heathrow slots.

But the long delay is increasing doubts. The intervention of Karel Van Miert, the newly aggressive European Commission Competition Commissioner, is worrisome because Van Miert, unlike U.S. and British regulators, may want the combo to die completely. His agenda, according to Brussels sources: protect struggling airlines on the Continent. The demise of the alliance would leave BA back at square one, while the world's other powerhouse alliance, Lufthansa-United, recently beefed up by adding SAS, Air Canada, and Thai Airways International.

American Airlines CEO Robert L. Crandall said recently that BA and American could go ahead with a big portion of their plans, including code-sharing, without any approvals. But Ayling is growing frustrated. He is threatening to abort the deal if it is not approved by November. What will he do instead? One analyst says he may be eyeing a linkup with Northwest Airlines Inc., which has had a troubled alliance with KLM Royal Dutch Airlines. But given Ayling's flair for drama, a bolder move seems more likely.